All you need to know about Merchant banking and Investment Banking


Equirus Wealth

09 Dec 2022 5 min read

Portfolio Management#Investment#Finance

Both these entities are financial institutions that cater to corporate and HNI (High Networth Individuals) clients. Merchant and Investment banks do not provide financial services to individuals. As a conventional practice, investment banks are enablers for companies who aspire to float an IPO (Initial Public Offering). On the other hand, merchant banks provide trade finance services to HNIs and corporates. However, over the years, these entities have widened their offerings, often overlapping the services offered. Hence, they are used almost synonymously. We look at the subtle difference between Investment banking and Merchant banking practice.

What is Investment Banking?

Investment Banking conventionally covers functions such as underwriting and M&A (mergers and acquisition) advisory services. It focuses on the creation of wealth for the entities that it provides services for, which includes legal entities, Corporates, and State & Central Governments. They are the catalyst between investors and securities. These entities identify the risks of projects and reduce the time and expenses involved to optimize fund utilization. They are engaged by corporates and Government entities alike to establish or improve operational efficiency. Investment banks are also expanding their scope of operation and providing services to their potential clients.

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Services offered by Investment Banking:

Below is the range of services offered by Investment banks:

  1. Underwriting services: This is one of the core services offered by Investment banks. Within this service, the entity will underwrite the security (either debt or equity), conduct due diligence, valuation, draft the prospectus, pricing, paperwork, allocation of securities before listing, etc.
  2. M&A advisory: Identifies potential target companies, analyses, conducts due diligence, valuation, legal advisory, and paperwork for closing the deal. Investment bank plays an integral role in mergers and acquisition. If the entity is a target company, then the Investment bank's role would be to evaluate the merit of the quote and negotiate for a value that deems fit for the target company.
  3. Fee-based advisory services: Investment banks have, over the years, expanded their offerings and provided investment advisory services for a nominal fee to their clients.
  4. Trading platforms for trading: These banks provide proprietary services concerning trading in securities. Institutional investors often trade actively in stocks, options, hedge funds etc., by using the platform provided by investment banks.
  5. Research services: As part of their expansive offerings, investment banks also have their proprietary research wing, which provides both primary and secondary research. Often these research reports are published privately to their clients for a nominal fee.
  6. Back-end services for corporates: Risk management, corporate strategy, financial control, etc., are some of the back-end services offered by corporates.
  7. Capital restructuring: Capital restricting is an activity that is often conducted to make the company profitable. Investment banks facilitate optimal capital restructuring to enhance the profitability of the company.

Types of Investment Banking

What is Merchant Banking?

The traditional role of Merchant banks is to provide financial and consultancy services within the realm of international trade and trade finance. They have, over the years, expanded their offerings wherein they offer services that are traditionally attributed to the investment banks, namely underwriting, funding services, portfolio management services, insurance services etc., They offer these services, which are not core to their practice, to small corporates or HNI clients as compared to investment banks which offer them to large corporates and bigger HNI clients.

Services offered by Merchant Banking:

Below is the range of services offered by Merchant banks:

  1. International trade finance: The focus of merchant banks is to enhance International Trade and Finance. It acts as an enabler in developing International Trade when an international company proposes to acquire a small domestic company. All cross-border transactions are supported by merchant bankers efficiently.
  2. Portfolio management services: As part of its expansive service offerings, it provides PMS services to its clients. They offer discretionary PMS services to corporates and HNI clients.
  3. Fundraising: Often merchant banks offer underwriting services or other types of fund-raising options across various assets, including equities, debentures, warrants, etc. Merchant bankers may also invest in companies and act as venture capitalists. Private placement or public offering may also be offered.
  4. Project finance and loan syndication: As an extension of the fundraising activity, activities such as project finance and loan syndication are also provided.

Merchant Banking vs Investment Banking: Differences

Merchant Banking vs Investment Banking DIfferences.jpg

In conclusion

The subtle difference between investment banking and merchant banking is their core operations. Investment banks’ core operations are underwriting and issuance of securities, while merchant banks are involved primarily in International financial and trade-related activities.

In today’s dynamic financial world, financial entities are growing increasingly similar, offering overlapping services. The scope of investment banks is far wider than that of merchant banks.

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